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J.C. Penney shows the danger of the discount

Before Ron Johnson joined department store giant J.C. Penney as CEO in 2011, he was the SVP of Retail Operations at Apple Inc., where he was responsible for developing the Apple Store and its Genius Bar.

Apple's retail strategy was a major contributor to Appl'e's mind-bending success over the past decade, and for his seven-plus years of work, Johnson was handsomly rewarded.

Needless to say, given Johnson's accomplishments at Apple, J.C. Penney shareholders had high hopes for what he might do for the century-old retailer.

Instead of using coupons and discounts, something the department store had done extensively for years, J.C. Penney would offer "Every Day", "Monthly Value" and "Best Price" prices on its merchandise. And instead of selling items for $x.99, it would use round numbers.

At the time, it was clear that Johnson was taking some cues from Apple. Make things simple, and the market will reward you. What wasn't clear was whether or not Johnson's strategy would work. Some liked it, while others suggested it could be disastrous.

Unfortunately for J.C Penney and its shareholders, the new approach isn't producing the expected result. Last Wednesday, the company reported its earnings for Q1 2012 and the numbers were ugly. Same-store sales dropped nearly 19%. Online sales plummeted 28%. All told, J.C. Penney reported a net loss of $163 million, or 75 cents per share; analysts had expected a net loss of just 8 cents per share.

Not surprisingly, the results have sent J.C. Penney shares reeling. They're down more than 20% in the past week, and the company has suspended its dividend to save cash. And it appears things might get worse as reports say that the retailer is looking to wholesalers for steep discounts.

The cause of J.C. Penney's disastrous quarter isn't hard to identify: shoppers aren't liking its new pricing. As C. Britt Beemer, chairman of consumer research firm America's Research Group, told the AP, "Consumers want deals, and they're willing to wait for them...When you train customers to shop at big discounts, that customer is not going to change".

In other words, J.C. Penney might be offering merchandise to customers at great prices, but they simply won't recognize that they're getting a good deal because, for better or worse, there's no, well, "deal." The result: they don't buy.

For his part, Johnson believes he made the right move, and is confident that in time, J.C. Penney customers (or, more accurately, former customers) will come to their senses. Clearly, Wall Street's reaction to the early results indicate that investors aren't so sure about that.

There's a timely lesson here for companies using the internet to acquire new customers or reward existing customers. Whether you're promoting a daily deal on Groupon or offering a coupon for a Facebook 'Like', discounts usually carry a cost. When customers come to expect those discounts, the cost is easy to significantly underestimate.

This, of course, doesn't mean that all discounting is bad. Coupons and deals are valuable tools when applied appropriately. But when a brand becomes known for its discounts, as was the case with J.C. Penney, it can be very, very painful to separate The Brand from The Deal.

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